The New Cold War And The Stock Market

U.S. Defense Secretary Jim Mattis briefs members of the media on Syria at the Pentagon April 13, 2018 in Arlington, Virginia. President Donald Trump has ordered a joint force strike on Syria with Britain and France over the recent suspected chemical attack by Syrian President Bashar al-Assad. (Photo by Alex Wong/Getty Images)

You asked for it, you got it! Trump bombed Syria for the second time in his 15 months in office. The risk of a proxy war with Russia becomes all the more real every time the U.S. threatens to lob bombs in retaliation for a chemical weapons attack Syrian President Bashar Assad ordered or did not order, depending on who you ask.

Cold War politics are back.

Last week, Treasury sanctioned Russian aluminum company Rusal, along with its CEO Oleg Deripaska. Rusal is a publicly traded, Eurobond issuing-entity. And as a result of last week's sanctions, the stock fell over 15%. This is a significant ruling by the U.S. against Rusal because any person owning debt and equity will have to divest by May 7, 2018. This unprecedented move had a significant effect on Russian asset prices, with the ruble falling by 12% against the dollar. The U.S. already has sanctions on major Russia corporations like Gazprom and Sberbank, but it does not require any shareholder to divest. What's coming next? The pressure on the Trump Administration to both prove the president is not aligned with Vladimir Putin and to be an honest broker in the territorial disputes that have now become part of the Russia-inspired separatist movements in eastern Ukraine is an ugly mix. No one knows where this can go next and so owning Russian securities is looking more and more like a bad idea.

"We are not a money manager but our long-term, price-based, analytical model would be underweight Russia versus a world index at this juncture," says Murray Gunn, head of global research at Elliott Wave International.

The political rhetoric between Russia and the U.S. continued to heat up on Friday when Trump announced three bombing raids against facilities in Syria believed to store or produce chemical weapons. Russia says there is no evidence that Bashar Assad's military used chemical weapons in Douma, a town that sits about 27 minutes out of Damascus by car. The U.S., U.K., and France agreed to hit those three sites. The Russian government is unlikely to retaliate with firepower as no Syrian or Russian military equipment or political offices were hit. The problem is that facts are hard to come by, and news headlines can change at a moment's notice. Anyone hoping for a U.S. Russia detente will be left frustrated once again. Obama called for a similar reset.

Trump practically blamed Putin for the attack, cranking up the dial on Cold War rhetoric.

"This suggests the risk of further political turmoil in the Middle East," says Tomasz Wieladek, senior international economist for Barclays in London. "The evolution of these events could influence President Trump’s decision on whether or not to extend waivers on Iran sanctions May 12."

Given the fact that he recently appointed an Iran hawk as his national security advisor, John Bolton, it is unlikely Iran gets any pass at all.

On April 14, Putin put out a statement pointing out that this was now the second airstrike ordered by Trump in retaliation for a chemical weapons attack. The first one was in Trump's first few weeks in office. This time, Putin said that "not a single local resident was able to confirm that a chemical attack had actually taken place. ....The U.S. panders to the terrorists who have been tormenting the Syrian people for seven years, leading to a wave of refugees fleeing this country and the region."

The Russian president said he will convene an emerging meeting of the U.N. Security Council.

Tensions rising, but not quote at the old Cold War levels just yet.Barclays

This new Cold War might be different than the 80s. Because nowadays if it is not the Russians irking the foreign policy establishment here, it is the Chinese.

China recently tried to de-escalate the trade dispute with the U.S. with Xi Jinping speaking at the Boao Forum, saying he will open China up to more Made in the U.S.A. goods and services. Some observers say that if China wants to really go after the U.S. it should dump its holdings of U.S. Treasury bonds. But if it did that, the Chinese yuan would weaken. A competitive yuan devaluation was mentioned by some senior officials in China already but that could be counter-productive in light of the Treasury Department's report on currency manipulation that came out on Sunday.

"We think that China will likely leave room for negotiation and cooperation while responding with tit-for-tat retaliation threats if needed," says Wieladek.

Meanwhile, economic activity is moderating from where it was at the start of the year. At first, only the manufacturing PMIs fell, but recent March readings show that services PMIs have also started to decline. They are still positive and strong, however. Only the perennial bears see a recession coming this year. But if the market reacts negatively to trade wars and proxy wars in the months ahead, a bear market is definitely in the cards at some point in the near future if sentiment takes a hit on all this political drama.

It's not all bad news. The global growth story remains intact. Russia did not retaliate over the weekend by sinking U.S. Navy ships in the Mediterranean. China is cutting taxes and opening its economy to investors. They will be competitors even if the U.S. hikes import duties on China goods. And if the crazy gunslingers keep popping shots into the night sky for whatever the reason, both real ones and imaged ones, the Fed may be forced to stand down and not raise interest rates as much as they intend to this year.

"To the extent that geopolitical tensions stay stable despite these minor skirmishes, the good news is that it allows the Fed to keep its foot on the brake," says Vladimir Signorelli, founder of Bretton Woods Research. "We recently sold out of oil and made 25% thinking we might get something nasty in Syria. I hope this is the end of that. Ten of the eleven past recessions since 1946 have been preceded by oil price spikes because of war worries so a geopolitically led oil spike could slow down growth. That is not a positive for the market."

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